FEDERAL COURT OF AUSTRALIA Wesfarmers Federation Insurance Limited, in the matter Wesfarmers Federation Insurance Limited [2008] FCA 2004 WESFARMERS FEDERATION INSURANCE LIMITED AND ANOR, IN THE MATTER OF WESFARMERS FEDERATION INSURANCE LIMITED NSD 1903 of 2008 EMMETT J 11 DECEMBER 2008 SYDNEY IN THE FEDERAL COURT OF AUSTRALIA NEW SOUTH WALES DISTRICT REGISTRY NSD1903 of 2008 IN THE MATTER OF WESFARMERS FEDERATION INSURANCE LIMITED, WESFARMERS FEDERATION INSURANCE LIMITED ACN 009 027 221 First Plaintiff WESFARMERS GENERAL INSURANCE LIMITED ACN 000 036 279 Second Plaintiff JUDGE: EMMETT J DATE OF ORDER: 11 DECEMBER 2008 WHERE MADE: SYDNEY THE COURT ORDERS THAT: 1. Pursuant to section 17C(5) of the Insurance Act 1973 (Cth) (the Insurance Act), the need for compliance by the First Applicant with section 17C(2)(c) of the Insurance Act is dispensed with provided that the First Applicant complies with Orders 2 and 3 below. 2. The First Applicant comply with the "Communication Plan", which is at tab 14 of Exhibit PLI-1 in the proceeding (the Policyholder Communication Plan). 3. Where the First Applicant provides a copy of the scheme summary in accordance with order 2 to persons specified in paragraph 1.b. of the Policyholder Communication Plan, the First Applicant shall do so by sending the scheme summary to the address of the person as recorded in the records of the First Applicant. 4. Further consideration of Claims 2 and 5 of the Application be reserved. 5. The Applicants have liberty to apply. 6. The Application be stood over before the Honourable Justice Emmett at 9.00 am on 18 March 2009. Note: Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules. IN THE FEDERAL COURT OF AUSTRALIA NEW SOUTH WALES DISTRICT REGISTRY NSD1903 of 2008 IN THE MATTER OF WESFARMERS FEDERATION INSURANCE LIMITED, WESFARMERS FEDERATION INSURANCE LIMITED ACN 009 027 221 First Plaintiff WESFARMERS GENERAL INSURANCE LIMITED ACN 000 036 279 Second Plaintiff JUDGE: EMMETT J DATE: 11 DECEMBER 2008 PLACE: SYDNEY REASONS FOR JUDGMENT 1 The first applicant, Wesfarmers Federation Insurance Limited (Wesfarmers), and the second applicant, Wesfarmers General Insurance Limited, which was formerly named Lumley General Insurance Limited (Lumley), are wholly owned subsidiaries of Lumley Insurance Group Limited (LIG), which itself is a subsidiary of Wesfarmers Limited. The two applicants are members of the Insurance Division, of Wesfarmers Limited. The two applicants engage in similar insurance businesses in Australia. They are proposing a scheme whereby the insurance business of Wesfarmers will be transferred to Lumley, thereby reducing the complexity arising from having two authorisations under the Insurance Act 1973 (Cth) (the Act), two Australian financial services licences, and two associated administrative, accounting, compliance and legal structures. 2 However, s 17B of the Act provides that no part of the insurance business of a general insurer may be transferred to another general insurer, or amalgamated with the business of another general insurer, except under a scheme confirmed by the Court. The applicants have commenced a proceeding in the Court, seeking such confirmation, and the matter is before me today, for directions and for other purposes as I shall indicate. In particular, the applicants ask the Court to fix a date for the purposes of hearing their application for confirmation of the proposed schemes for the transfer of the insurance business of Wesfarmers to Lumley. 3 It may be arguable that, at this stage, there is no jurisdiction for the Court to exercise, in the course of which the Court could give an indication as to its likely attitude to confirmation. However, before dealing with the application presently before me, and fixing a date for hearing, it would be desirable for the Court to form a view as to whether, assuming proof of due procedural process, the Court would be likely to confirm the scheme on an unopposed hearing of a confirmation application. That it to say, it would be desirable for the Court to air any reservations that it might have about confirmation of the proposed scheme. In that context, of course, the applicants would be under a duty to bring to the Court's attention all matters that would be considered relevant to the exercise of discretion in an ex parte application. 4 The specific matter that is raised before me today concerns the operation of s 17C of the Act. Section 17C(2)(c) relevantly provides that an application for confirmation of a scheme must not be made unless an approved summary of the scheme has been given to every affected policyholder. An approved summary, is a summary approved by the Australian Prudential Regulation Authority (APRA). An affected policyholder is a holder of a policy that is affected by the scheme. Affected policyholders, for the purposes of s 17C, are only those whose policies are transferred under the scheme. On the other hand, the effect of the scheme on existing policyholders of the transferee is also relevant to the exercise of the Court's discretion whether or not to confirm the scheme (see Re Insurance Australia Limited (2004) 139 FCR 450, at [18] to [25]) 5 Section 17C(4) provides that an affected policyholder is entitled to be provided by the company with a copy of the scheme free of charge. However, s 17C(5) provides that the Court may dispense with the need for compliance with s 17C(2)(c) in relation to a particular scheme, if it is satisfied that, because of the nature of the scheme or the circumstances attending its preparation, it is not necessary that the paragraph be complied with. The applicants have asked the Court today to make an order pursuant to section 17C(6). Before making such an order, and fixing the confirmation hearing date, it is desirable to say something about the background to the scheme that is proposed. 6 Each of the applicants is an authorised general insurer under the Act. There are no conditions attaching to the authorisation of Wesfarmers. However, there is a condition, which is not presently relevant, attached to the authorisation of Lumley. The appointed actuary of the applicants, Mr Scott Collings of Finity Consulting Pty Limited (the Actuary), has prepared a report covering the proposed transfer of the insurance business of Wesfarmers to Lumley. 7 The businesses of Wesfarmers and Lumley presently comprise the provision of insurance to consumers and businesses throughout Australia. Wesfarmers has operated in Australia since 1919 and has headquarters near Perth. It focuses on the rural and small business sectors and conducts most of its business directly with its policyholders. Lumley has operated in Australia since 1937 and is based in Sydney. It is a specialist wholesale insurer providing a wide range of insurance products, through intermediaries, to its customer base, which consists predominantly of small and medium sized commercial enterprises. The present Lumley business is more than twice the size of Wesfarmers in terms of premium income. Although there are some similarities in the classes, different products are typically sold in different markets. 8 All liabilities and assets under insurance policies written by Wesfarmers are to be transferred, including both known and unknown liabilities, that is, including all incurred but unreported claims and claims that may arise after the effective date of the transfer from currently unearned premiums. All rights and obligations of Wesfarmers under those policies will become rights and obligations of Lumley. The policies of Wesfarmers will remain unchanged but for the substitution of Lumley for Wesfarmers as the insurer. 9 It is the intention of Wesfarmers and Lumley that all the existing claims will continue to be managed by staff who are currently employed by Wesfarmers and who will be employed by Lumley following the transfer. Both Lumley and Wesfarmers will continue to exist as separate brands and will be used for both new and renewal continuing business. Current Lumley policyholders will continue to receive Lumley branded policies and current Wesfarmers policyholders will continue to receive Wesfarmers branded policies. 10 There will be no change in the terms and conditions of any Wesfarmers policy as a result of the transfer. It is proposed that all existing facultative and treaty reinsurance contracts protecting Wesfarmers will be transferred to Lumley. Assuming the scheme is confirmed, all reinsurance arrangements will automatically transfer, with the exception of reinsurance policies written under foreign legal jurisdictions or containing unusual clauses relating to cancellation. 11 The Actuary has not reviewed the wording of the reinsurance treaties, since the interpretation of contract wording is outside their expertise. However, the Actuary has expressed the belief that Wesfarmers and Lumley have adopted a reasonable approach in investigating the question of the transfer of reinsurance arrangements. He has assumed, on the basis of investigations made by Wesfarmers and Lumley, that the reinsurance arrangements and the rights and obligations of the reinsurers will be unchanged, except for the substitution of Lumley for Wesfarmers as a party to the contracts; the transfer will not affect the amounts that reinsurers are or may be liable to pay. The Actuary has indicated, in his report, that combining the liabilities of Wesfarmers and Lumley does not change the nature of the liabilities accepted for reinsurance. Accordingly, for any specified probability of sufficiency, the risk margin required for each individual class of business is unchanged. 12 The Actuary's report contains a section dealing with the Actuary's assessment of the impact of the scheme on policyholders. In assessing the impact of the scheme on policyholders, the Actuary points to a number of areas of interest for both Wesfarmers and Lumley policyholders. They relate primarily to the ability and willingness of the insurer to pay valid claims as and when they fall due. In reviewing the impact on policyholders, the Actuary considered three key areas as follows: 1. Policy terms and conditions for policyholders, 2. Financial security of the insurer both before and after the transfer, and in particular the capital position, and 3. Claims handling practices and procedures. 13 In relation to policy terms and conditions, the Actuary concludes that terms and conditions will be unchanged for the reasons that I have briefly indicated. 14 In dealing with financial security, the Actuary observes that each applicant had a significant level of net assets or capital, measured according to Australian accounting standards. The capital adequacy figures for both Wesfarmers and Lumley have increased over the past year. The Actuary's report contains a table showing the impact of the transfer on the capital adequacy positions of the two applicants, on the assumption that the transfer had taken place on 30 June 2008. The table demonstrates a capital adequacy multiple in respect of Wesfarmers and Lumley, prior to transfer, of 2.41 and 1.7 respectively. The table shows a capital adequacy multiple for Lumley of 1.9, after adjustments to take account of the hypothetical transfer. 15 Thus, the capital adequacy multiple of the merged company will be lower than it was for Wesfarmers. On the other hand, the capital adequacy multiple of the merged company will be greater than it was for Lumley. To the extent that the effect of the transfer on the policyholders of the transferee is a relevant consideration, it would appear that that effect is not detrimental, but is advantageous. The Actuary understands that, after the scheme, Lumley's capital management policy will continue to aim for a Standard & Poor's A rating. 16 The Actuary understands that Lumley's target capital adequacy ratio will be 1.5, which is 50 per cent more than the minimum regulatory requirement. The Actuary expresses the view that commitment to maintain Standard & Poor's A rating and a margin over the regulatory minimum capital requirements provides a level of prospective financial security to policyholders. The Actuary has also had regard to the fact that Wesfarmers Limited has provided Lumley with a letter of support, which states that Wesfarmers Limited will support Lumley in the event that Lumley encounters financial difficulty. A similar letter had been provided to Wesfarmers. 17 In relation to the third matter affecting policyholders, the Actuary notes that all Wesfarmers staff will transfer to Lumley. As part of the transfer, Wesfarmers' technical claims department will be restructured. That department deals with complex claims issues and sets the overall claims handling policy. However, day to day claim management will be unchanged by the scheme, with the same staff following the same processes. The Actuary does not expect that the changes to the technical claims department will adversely impact on Wesfarmers' policyholders. Management of the claims of Lumley policyholders will continue to be undertaken by Lumley staff, and there will be no change in those arrangements. 18 In summary, the Actuary reaches the following conclusions: 1. Given that Wesfarmers' policies will be taken over by Lumley, with no change to terms and conditions, the Actuary is satisfied that the scheme will not adversely impact the interests of Wesfarmers' or Lumley's policyholders in that regard. 2. Given that both Wesfarmers and Lumley are separate insurers providing adequate financial security to policyholders and that all assets of Wesfarmers are to be transferred to Lumley, the Actuary is satisfied that the expected financial position of Lumley, after the transfer, will provide adequate financial security to the policyholders of both companies, but notes that there is always uncertainty as to the outcome of insurance business and ongoing solvency cannot be guaranteed. 3. Given the claims management practices of each company now, and the plans for the transfer, the Actuary does not believe that there will be any detriment to policyholders in that regard. In summary, the Actuary is satisfied that the interests of policyholders should not be adversely affected in any material way, as a consequence of the scheme. 19 The applicants also appointed Ernst & Young to perform a peer review of the Actuary's report on the proposed transfer of Wesfarmers to Lumley. Ernst & Young's review of 19 November 2008 concludes that the interests of current policyholders will not be adversely affected, to any material degree, by the proposed transfer pursuant to the scheme. APRA has given notice under the Insurance Acquisitions and Takeovers Act 1991 (Cth) of a "go-ahead decision" in respect of the proposed scheme. Further, APRA has approved a proposed summary of the scheme to be provided to affected policyholders. APRA has also given its approval to a policyholder communication plan, which has been prepared on behalf of the applicants, in contemplation of the operation of s 17C(2)(c). 20 The policyholder communication plan relevantly provides as follows: 1. Policyholder notification. a. The Parties have considered the effect of the Scheme and … have determined that the implementation of the Scheme will cause no adverse impact on the rights and entitlements of i. policyholders and claimants of [Lumley] ("[Lumley] Clients"); or ii. former policyholders and claimants of [Wesfarmers] ("Former [Westfarmers] Clients"). As a result, the Parties will apply to the Court seeking dispensation from notifying [Lumley] Clients and Former [Westfarmers] Clients, subject to paragraph (b) below. b. All current [Wesfarmers] policyholders, any former [Wesfarmers] Clients who have current outstanding claims and any third parties who have lodged claims with [Wesfarmers] relating to a [Wesfarmers] policy (the "[Wesfarmers] clients") will be notified of the proposed Scheme by regular post. Each will be provided with a summary of the Scheme ("the Scheme Summary") and details of how they can view a complete copy of the Scheme documents described in section 2, below. … c. The Parties will also notify any new [Wesfarmers] Clients from the date of the commencement of the notification period by including a letter explaining the proposed Scheme and a copy of the Scheme Summary with the initial written communication with the [Wesfarmers] Client. … … 2. Access to Scheme Documentation a. The parties propose to send the Scheme Summary to the [Wesfarmers] Clients by 31 December 2008. b. The parties propose that public inspection period of at least 15 business days commence on 2 January 2009 and finish on 23 January 2009 inclusive … … c. Anyone seeking to view a copy of the Scheme at any of these [identified] locations will be required to provide personal identification and the evidence they have a "Relevant Relationship" with [Wesfarmers] or [Lumley] (ie, they are a current or former client or a representative of a current or former client). … … 3. Notice of intention The notice of intention relating to the Scheme … will be placed in [specified] publications detailed [in the communication plan] no later than 31 December 2008. … … 4. Client questions All staff will be instructed to direct all questions from clients regarding the Scheme to … [the] Project Manager, in the first instance. In the event that [the Project Manager] is not available or not able to receive communications from clients, all communication is to be directed to … [the] National Marketing Manager for [Wesfarmers]. The recipient of the communication will be responsible for ensuring all questions are responded to appropriately. … 21 The applicants propose that strict compliance with s 17C(2)(c) be dispensed with in two respects. First, there may be claims that have been incurred but not reported by former policyholders, in respect of policies held by former policyholders. The applicants have no way of knowing whether such claims have been incurred and therefore, have no way of notifying former policyholders. Accordingly, it is appropriate that, to the extent that s 17C(2)(c) requires the approved summary to be given to such affected policyholders, the provision be waived. As I have said, the policyholders of Lumley are not affected policyholders, for the purposes of the Act. 22 On one view, for an approved summary to be given to every affected policyholder requires evidence that the policyholder has in fact received the approved summary. That may be impracticable. It is proposed that, in notifying Wesfarmers' clients, as contemplated by paragraph 1(b) of the communication plan, the applicants have no greater obligation than to send the scheme summary by mail to the address of the person as recorded in the records of Wesfarmers. However, the applicants accept that it is appropriate, as a term of the Court's dispensing with strict compliance with s 17C(2)(c), that the applicants comply with the policyholder communication plan. 23 In the circumstances, I consider that it is appropriate to waive compliance with s 17C(2)(c), on condition that the applicants comply with the communication plan and that the approved summary be provided to relevant persons at the address of those persons, as recorded in the records of Wesfarmers. Having regard to the report of the Actuary and the review of Ernst & Young and the fact that APRA has given the necessary approvals, I am satisfied that, subject to proof of due procedural process, the Court would be likely to confirm the proposed scheme on an unopposed hearing of a confirmation application. Accordingly, it is appropriate to fix a date for the purposes of hearing such an application. I certify that the preceding twenty-three (23) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Emmett. Associate: Dated: 22 January 2009 Counsel for the Applicants: Mr M Oakes SC Solicitor for the Applicants: Blake Dawson Date of Hearing: 11 December 2008 Date of Judgment: 11 December 2008